Who Will Bear the Risk of Terror?

Insurance policyholders in 47 states are in jeopardy of losing coverage on terrorism-related losses after Dec. 31 of this year. That's because insurance commissioners in those states have allowed underwriters to waive terrorism provisions, even on existing policies, if a federal backstop on terrorism insurance is allowed to expire at the end of 2005.

“The construction, purchase and leasing of new buildings and shopping malls, or any structure that holds a lot of people, could be cancelled or postponed” if the federal backstop expires, U.S. Chamber of Commerce President and CEO Tom Donohue stated in a video address to a Chamber symposium on terrorism insurance March 17. The Chamber hopes to avert that outcome by lobbying for an extension of the 2002 Terrorism Risk Insurance Act (TRIA).

TRIA brought some order to the chaos following 9/11 by filling a void created when private reinsurance providers — reeling from more than $30 billion in insured losses — ceased to back new terrorism policies. TRIA requires insurance companies to offer terrorism coverage and commits the government to reimburse insurers for 90% of losses due to terrorism (beyond a 15% deductible).

House bill 1153, introduced March 9, would extend TRIA for two years and require the Treasury Department to develop long-term solutions for terrorism reinsurance. Senators Chris Dodd (D-Conn.) and Bob Bennett (R-Utah) reintroduced a TRIA extension bill (S. 467) on Feb. 18.

Congressman Mike Capuano (D-Mass.), one of five co-sponsors on the House bill, calls it a bridge measure until lawmakers better understand terrorism risk and can design a long-term policy. “Without the federal backstop, most insurers will not provide this insurance, or if they do, they will place so many caveats on it that no one will purchase the coverage. Where are we then?” he asks.

Opposing voices

But some in Washington argue that the economy and insurance industry have sufficiently recovered to insure terrorism risks without government backing. The non-profit Consumer Federation of America released a report in 2004 that concluded insurers could offer affordable terrorism coverage without TRIA in all but nine U.S. cities.

A recent Congressional Budget Office (CBO) report on terrorism insurance also offers a dissenting view. The report states that reinsurers covered 60% to 80% of insured losses resulting from 9/11. While the private market could only reinsure $4 billion to $6 billion in terrorism policies in 2004, the CBO contends higher premiums in the private sector could increase the capacity of reinsurers while encouraging property owners to mitigate terrorism risks. (By comparison, TRIA provides up to $100 billion in reinsurance.)

Lawmakers are not expected to make a decision on the issue until after the Treasury Department presents its TRIA performance assessment, due by June 30. Any measure will likely include modifications to increase the risk insurers carry. A version of the House bill that didn't reach a vote before the end of the last session called for 20% deductibles by 2007.

Even a modified extension would suit proponents like the Coalition to Insure Against Terrorism (CIAT), which represents a wide range of industries from real estate to transportation to entertainment. The group advocates extending some form of government support to keep terrorism coverage available and affordable beyond Dec. 31. “As consumers, we just want coverage,” says Martin DePoy, vice president for government relations at the National Association of Real Estate Investment Trusts and the steering committee coordinator for CIAT.

Prepare for any outcome

TRIA's fate will have major implications for real estate. In a national study of policy holders, insurance giant Marsh found 61% of commercial property owners owned or purchased terrorism coverage in the third quarter of 2004. Terrorism provisions were most common in the Midwest, included in 56.2% of policies, and Northeastern states, 52.7%. Eric Schake, managing director and head of the real estate practice at Marsh, attributes the Midwest's high take-up rate to coverage in large metropolitan centers.

If TRIA expires, most insurers are expected to either discontinue or limit terrorism coverage. Schake says those who continue to offer terrorism coverage may raise premiums five or even tenfold. A property owner who now pays a $50,000 premium for terrorism coverage could end up paying as much as $500,000.

Schake suggests that policy holders work with underwriters to develop two insurance strategies: one to cover terrorism risks if TRIA is renewed, and one to address those risks if the act is allowed to expire. Property owners may also benefit from working with a security consultant to mitigate risks.

Some insurers will offer terrorism coverage even if TRIA expires, according to Schake. But with essentially no reinsurance, the high price may not make those provisions cost-effective. “You can buy insurance for a burning building, but the premium may be equal to thereplacement cost.”